The Regulations on Foreign Investors' Mergers and Acquisitions of Domestic Enterprises (M&A Regulations) became effective on September 8 2006. This marks the first time a regulation has been jointly adopted by six ministerial departments and orchestrated by the Ministry of Commerce (MOFCOM). MOFCOM will take the lead in regulating the foreign investment market, while joint collaborative support amongst the ministerial departments will provide better coordination among the government agencies involved.
The M&A Regulations have been implemented in response to the increasing number of M&A transactions in China. While the new regulations should not serve as a speed bump to this busy market, their language reflects the government's concern about protecting companies in perceived key industries and those associated with national security from being acquired by foreign investors, as well as the outflow of well-known trademarks, including traditional Chinese brands. M&A transactions touching upon these concerns will be subject to stricter MOFCOM scrutiny.
The M&A Regulations reflect the state's current agenda to:
(i) heighten protection of key industries;
(ii) clarify the nature of foreign investment;
(iii) recognize limited share swaps as considerations for M&A transactions;
(iv) facilitate the creation of special purpose vehicle (SPV) companies through otherwise impermissible shares swap for domestic companies' initial public offerings in foreign countries, and
(v) establish interim anti-monopoly review procedures to protect market competitiveness and stability until the anti-monopoly law is promulgated.
While the M&A Regulations equip the government agencies with tremendous discretionary power, they fail to provide clear guidelines on their implementation. For example, the M&A Regulations impose a duty to report information where the M&A transaction will create an impact on China's economic security, and MOFCOM may require the parties to terminate the deal if parties fail to make such a report. Beyond the national defence industry, what are the boundaries in protecting the state's economic security? The M&A Regulation is not clear, so perhaps the legislature purposely left it vague to allow for case-by-case reviews. Furthermore, it is uncertain whether the China Securities Regulatory Commission (CSRC) was only given the authority to approve all SPV companies' offshore listings or only the listings of those that are limited to equity interest exchange transactions.
An indication of overwhelming governmental discretion is also found in several catch-all provisions in the M&A Regulations. For example, Article 11 provides that parties may not engage in "other methods" to avoid the MOFCOM approval process. Similarly, Article 15 requires the disclosure of affiliated relationships in M&A transactions and the parties cannot avoid such duties of disclosure through trust or nominee relationships, or through "other methods".
Further, beyond the specific conditions which will trigger anti-monopoly reviews, MOFCOM and the State Administration of Industrial and Commerce (SAIC) may require the foreign acquirer to report the information relevant to the transaction for review if MOFCOM and SAIC consider the acquired market share to be "large and significant" or if "other facts" exist which will seriously impact market competitiveness.
It is also interesting to note that under the new regulations, MOFCOM and not the subordinate agencies will have the final authority to approve all M&A transactions involving foreign acquirers and domestically-founded SPV companies, regardless of the transaction size.
Hopefully, the answers to these questions will be answered by the upcoming implementation rules. The biggest upside to the new M&A Regulations is that the door for cross-border M&As via share swap transactions and offshore listings of red chip companies has swung open. Yet, venture capital investors may be still be confronted with difficulties when considering M&A as an exit strategy, as that route is still not clear. Such investors' willingness to invest in start-ups via M&As will still largely depend on their appetite for uncertainty and risk.
The M&A Regulations are part of the recent trend of commercial law reforms in China, including the segregated shares tradability reforms and amendments to the company law and securities law. As the legislation affecting China's capital markets is changing, the M&A Regulations should be studied in light of these recent developments.
